Community Banks See New Opportunities in Payroll Lending

A number of community banks, eager to make inroads with underbanked clients, are looking to offer employer-sponsored payroll loans.

Several community development financial institutions are already offering personal loans through partnerships with big employers.

The small-dollar loans – designed as a workplace benefit akin to health insurance and discounted gym memberships – are intended to serve as a low-cost alternative to payday loans.

But they could also give smaller banks a chance to compete in the much larger market for online consumer loans.

"The goal is really to try to discourage people from using payday lenders," said Darrin Williams, chief executive at the $1.2 billion-asset Southern Bancorp in Arkadelphia, Ark., which plans to launch its program next month.

Other small banks across the country, including Spring Bank in Bronx, N.Y., and Sunrise Banks in St. Paul, Minn., are also expanding their employer-sponsored loan programs.

The push into payroll lending comes as small-dollar loans have come under intense regulatory scrutiny.

The Consumer Financial Protection Bureau in March unveiled plans to crack down on short-term loans, requiring lenders to take more steps to verify a borrower's ability to repay. After months of delays, the CFPB plans to release its final proposal later this quarter.

The CFPB in recent years has made it a priority to crack down on the payday lending, accusing lenders of creating "debt traps" for consumers.

Employer-sponsored loans are similar to payday loans, but typically offer much lower interest rates, said Rebecca Borne, senior policy counsel at the Center for Responsible Lending. "Fundamentally, these are payday loans, but it doesn't mean that they will be as high cost," she said.

Employer loans have become more popular in recent years, Borne said, pointing to several credit unions and startup firms that have offered them with a wide range of rates and terms.

It is a fairly new product in the banking industry, where lenders typically base loan values on verification of a borrower's net income and monthly cash flow.

Southern Bancorp will initially offer small-dollar loans to its own employees as a "beta test" before expanding the program, Williams said.

Loans will be capped $1,000 with a maximum rate of 16.99% and one-year terms, Williams said. He declined to offer details about the timing of the larger public launch.

Other banks have expanded into employer-sponsored payroll loans.

The $130 million-asset Spring Bank began offering the loans last summer at two nonprofits in the Bronx that focus on health care services. Spring offers loans of up to $2,500 with a maximum one-year term.

Spring Bank, which has so far made $64,000 in employer loans, is in talks with two major hospital networks in New York City, said Melanie Stern, the bank's director of consumer lending.

"It's good for the employer, it's good for the employee, and it's good for us because we anticipate it will reduce delinquencies because everyone is paying through payroll," Stern said.

Small-dollar loans typically have thin margins, making them costly for firms. But they could provide a longer-term benefit to banks' bottom lines, executives said.

Most employer loans are offered online, eliminating the need for a borrower to visit a branch. That could give small banks an advantage as they aim to compete in the booming market for online consumer loans.

Southern's employer loan program, which offers same-day processing, is the bank's first foray in developing a personal loan that can compete with marketplace lenders, Williams said.

"We face competitors that are not just [payday] lenders," Williams said. "We face competitors such as Lending Club. How do we reach customers in our markets who are much more comfortable using technology?"

"Technically, this is an online consumer loan, being funded electronically," said David Reiling, chief executive of the $812 million-asset Sunrise Banks. "We do compete with the payday and online lender space."

Sunrise offers employer-based loans in three states — Ohio, California and Minnesota — through a partnership with a third-party vendor, Reiling said. The bank is conducting a legal review as it mulls offering the product "nationwide," he said.

Consumer advocates are skeptical of some aspects of payroll loan programs, even though they provide a cheaper alternative to payday loans.

Banks should offer an option to opt out of automatic payroll deductions, Borne said. "There's just this fundamental tenant with credit that the lender should not be put first in line" for payments, she said.

The Center for Responsible Lending has asked the CFPB to make this clarification in its final payday lending proposal, Bourne said.

Still, banks are seeing benefits from the program. Sunrise, which has a portfolio of about $500,000 in employer-sponsored loans, has seen its net promoter score more than double since it began offering the loans three years ago, Reiling said.

Employers who have worked with Spring Bank have also said the program helps reduce financial stress among low-wage employees.

"They have nothing to lose," said Inez Segarra, senior vice president of Human Resources at Boom!Health, a Bronx-based nonprofit that focuses on HIV prevention. The organization offers employer-sponsored loans through Spring bank.

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